U.S. Dollar Boosted by Services Sector Data as Trump's State of the Union Address Looms

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- USD boosted by strong performance of service sector Tuesday. 

- But economy is still on course to slow in 2019, economists say.

- And Trump's State of Union address is a threat to USD Tuesday.

The Dollar was boosted in noon trading Tuesday by a survey suggesting the services sector continued to grow strongly in the New Year despite the longest government shutdown in history and a faltering global economy.

America's Dollar swiftly converted earlier losses into gains following the report although those moves could quickly be unwound if President Donald Trump's looming State of the Union address antagonises relations between the White House and Congress. 

The Institute for Supply Management PMI survey of the non-manufacturing sector came in at 56.7 for the month of January, down from an upwardly-revised 58 in December and beneath the 57.2 consensus forecast. 

January's decline was mostly the result of a steep -5% fall in the new orders component of the overall index, although current activity levels also declined by -1.5%. However, and on the upside, U.S. services firms still increased their headcounts last month, with the employment subindex rising 1.2%. 

"According to the ISM non-manufacturing index, the services side of the US economy is still performing well," says Katherine Judge, an economist at CIBC Capital Markets. "Still, the last couple of headline readings are cooler than the lofty prints seen earlier in the second half of 2018, an indication that the US economy is on a slightly slower growth trajectory this year."

January's decline in the services index took place during a month when the U.S. government underwent its longest shutdown in history which, having seen government departments close and hundreds of thousands of federal workers laid off, was always expected to dent the services sector for January.

That decline came at the beginning of a year that is widely expected to see U.S. economic growth slow from the multi-year highs seen back in 2018, when the economy was buoyed by the White House's mammoth programme of tax cuts. 

So the fact the index fell only marginally in January could explain the positive reaction from the U.S. Dollar Tuesday.   

"We had hoped for better, but it seems likely that the government shutdown, which temporarily hit consumers’ confidence, has infected the ISM non-manufacturing survey too," says Ian Shepherdson, chief U.S. economist at Pantheon Macroeconomics. "Consumer-facing business can be forgiven for feeling nervous as the shutdown lengthened. We hope for a rebound next time." 

PMI surveys measure changes in industry activity by asking respondents to rate conditions for employment, production, new orders, prices, deliveries and inventories. A number above the 50.0 level indicates industry expansion while a number below is consistent with contraction.

Markets care about the data because it is an indicator of momentum within the economy and economic growth has a direct bearing on consumer price pressures, which dictate where interest rates will go next.

"We think this is a sign of things to come, as the impact of the Fed’s rate hikes last year feeds through to economic activity, just as the boost from fiscal stimulus fades further. We expect economic growth to fall well below its potential rate later this year," says Michael Pearce, an economist at Capital Economics. 

Pearce and the Capital Economics team say a weak international economic backdrop and eight interest rate rises from the Federal Reserve (Fed) in the last three years mean the U.S. economy is set for a sharp slowdown later this year, which could force the Fed to begin cutting rates once into 2020. 

The U.S. Dollar index was quoted 0.25% higher at 96.07 following the release, after having spent much of the Tuesday session carrying a loss, and the index is now up 0.05% for 2019.

Gains for the Dollar were broad, with most G10 currencies ceding ground to it. The Pound-to-Dollar rate was -0.64% lower at 1.2943 while the Euro-to-Dollar rate was down -0.24% at 1.1407. 

Price action came ahead of an eagerly anticipated State of the Union address from President Donald Trump, which will air during what will then be the early hours of London's Wednesday morning. 

The White House has fought a long running battle with opposition lawmakers in Congress over funding for a proposed wall along the most exposed and easily traversible parts of the southern border with Mexico, with the January shutdown being just one of the adverse results. 

The U.S. border has been approached by thousands of South American migrants seeking entry into the country during recent months and there is speculation Trump may use Tuesday's address to declare a state of emergency in an effort to resolve the border problem. 

"That would weigh on USD as it raises prospects of a messy stand-off with Congress," says Elsa Lignos, head of FX strategy at RBC Capital Markets. "The House would likely pass a resolution to challenge it, forcing Senators to also show their hand."

Declaring a state of emergency would give Trump even more executive powers than he already has, enabling him to appropriate funds from budgets of other federal departments in order to finance construction of the wall. 

Funding for the wall requires Democratic Party votes in Congress and most opposition lawmakers have committed to opposing the wall at every step of the way, leaving the Trump with a choice between abandoning a signature campaign pledge and entering unchartered territory in terms of relations between the White House and Congress.

"Such an announcement would be modestly negative for risk (as it would risk further escalation between Democrats and the President), yet we don’t look for a commitment to it today, but rather it being used as a threat," says Petr Krpata, a stratgist at ING Group. 

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